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Actuaries in the B y R i c h a r d d e H a a n Risk is the name of the game in the capital markets, which is why actuaries have their work cut out for them there. ctuaries have traditionally focused on relatively specific insurance-related fields: life, health, property/casualty (P/C), and pensions. In these industry segments, actuaries have played well-defined roles within their organizations, at both the corporate and business unit or operations levels. Given their skill set, it’s broadly agreed that actuaries have succeeded by adding significantly to the financial and risk man- Recently, the profession has sought ways to promote actuarial involvement in wider fields. Market needs are pushing the envelope, challenging actuaries to expand into new and less traditional areas. While there is no doubt actuaries will continue to play their vital traditional role in the insurance industry, there is a fast-growing realization in other financial services industries—particularly the capital markets—that actuaries can provide missing and much-needed value. Recent employment statistics indicate that although the number of actuaries working for employers in the capital markets has grown by 5 percent per year over the past five years, there are only approximately 450 such actuaries, constituting a relatively small 2 percent of actuarial membership. While inroads have been made, the journey is just beginning, and the career potential for actuaries in nontraditional actuarial fields is significant. Drivers of Change Several internal and external drivers of change have affected the actuarial profession over the past decade, including increased compliance and regulations, convergence of international accounting standards across the financial services industry, and increased recognition of companies’ risk management needs. 20 Contingencies | JUL/AUG.07 No doubt new opportunities will continue reshaping the profession. As these drivers bring other industries within range of the actuaries, the question is: Can actuaries react quickly and demonstrate that they can think outside the box and play meaningful roles in these industries? Recent developments in the capital markets seem to indicate that actuaries are facing a time of change and approaching a period of exciting opportunities. To their credit, the leading actuarial professional organizations—including the Society of Actuaries (SOA), the Casualty Actuarial Society, the American Academy of Actuaries, the Canadian Institute of Actuaries, the Institute and Faculty of Actuaries in the United Kingdom, and others—have recognized the need for the profession to apply its actuarial skills to a broader scope of work. These organizations have launched initiatives to expand the understanding of the business value of actuarial experience, identify nontraditional actuarial career paths, and map out new ways for actuaries to add unique value to their organizations and clients in the future. The focus on change in the actuarial profession is most recently demonstrated in the final report issued by the American Academy of Actuaries’ task force for the Critical Review of the U.S. Actuarial Dave Cutler agement expertise within insurance companies and pension funds. Capital M ark ets Contingencies | JUL/AUG.07 21 Actuarial Roles in Insurance Mergers and Acquisitions Insurance stock analyst • Follows industry trends and listed insurance companies. • Works for investment bank or brokerage firm. • Understands insurance market prospects and competitive landscape. • Actuarial skills used to analyze published financials, review earnings guidance, and evaluate prospective EPS. Rating agency analyst • Reviews ability of insurance companies to meet obligations to policyholders, creditors, and shareholders. • Discusses prospects with company management. • Involved in rating new stock or debt issues. • Understands insurance market and financial reporting. M&A banker • Works for investment bank on insurance company and insurance-related transactions. • Analyzes actuarial appraisals used to support purchase price and develop Purchase GAAP financials. • Uses actuarial skills in non-insurance deals to look at balance sheet risk issues and future asset performance. Capital markets adviser— insurance deals • Works for institutions that are actively purchasing insurance companies or blocks of insurance business, or setting up their own reinsurance divisions. • Gets involved in assessing deals as they come in, post-deal integration of insurance portfolios, and other actuarial areas like valuation, pricing, risk management, and financial reporting. 22 Contingencies | JUL/AUG.07 Profession (CRUSAP). The CRUSAP team worked for almost two years to identify risks and opportunities facing the American actuarial profession and to make recommendations for both the profession and individual actuaries to adapt to change and to identify new opportunities. This report, reviewed in the March/April 2007 Contingencies, echoes the SOA and other organizations’ discussions about the need for the gradual broadening of understanding by both businesses and actuaries on how the actuarial discipline can add value to non-insurance-specific financial areas. One of the obstacles to this goal is that current training has not directly equipped actuaries to participate in non-insurance industries, making it difficult for actuarial professionals to make a case for meaningful participation. Success in these nontraditional fields requires actuaries to demonstrate broad business acumen and business communication skills as well as the ability to translate actuarial methodologies for other industries and to advocate the value they can offer to the enterprise. Profiles in Added Value Over the past few years, the window of opportunity has been slowly opening for actuaries in the capital markets as a result of mergers and acquisition (M&A) transactions, securitizations, and life settlements. As the capital markets continue to invest in the insurance industry, new opportunities will flourish, allowing more actuaries to migrate into mainstream capital markets activities. At the risk of being predictive, the following are actuarial roles that may become more common in the future: ➤ Insurance industry “expert.” Arguably driven by how enterprise risk management (ERM) has thus far affected the business and investment worlds, there is a growing consensus that commercial and investment banks, brokerage, hedge funds, rating agencies, and ultimately investors, will place increased importance on understanding, quantifying, and clearly explaining their insurance-related investments as well as their insurance programs and exposures. For example, these institutions need to understand, in a post-Katrina world, the relative risks facing publicly traded P/C insurers. Are all life companies equal in managing the potential risks of pandemics? ➤ Insurance industry analyst. Actuaries have a unique perspective and comprehensive technical knowledge of insurance products, pricing issues, and the risks insurers face at all levels. That insight—applied to analysis and tracking of insurance industry trends, competitive landscape, and the fundamentals and projected performance of specific companies—provides credibility and value to an investment bank’s or brokerage’s published analysis and client guidance. ➤ Investment bank and M&A adviser. Investment banks have traditionally advised on insurance transactions. More recently, Actuarial Roles in Insurance Securitizations however, investment banks themselves have started purchasing insurance companies or blocks of insurance business, or have set up their own reinsurance divisions. Actuaries logically must play a key role in performing due diligence on these deals and determining the appropriate price to pay for the entity. They must also provide their knowledge and experience to help manage and extract value from the acquired insurance portfolio through active involvement in the post-deal integration process and overall financial management. ➤ Life settlements adviser. While small today relative to traditional life insurance lines, a growing secondary market in life insurance policies is attracting investment banks and hedge funds. In addition to helping assess the inherent risks and pricing the life settlement portfolios, actuaries are needed to monitor portfolios’ emerging experience, financial performance, and results. ➤ Rating agency analyst. For both insurance companies and investors, rating agencies play a key role in providing quantitative and qualitative analysis of a company’s investment quality and future performance. Actuarial involvement can be critical in assessing insurance companies’ ability to meet their obligations to Securitization—investment bank • Works on developing and marketing alternative solutions. • Develops financial deal models, serving as liaison with insurance company’s consulting actuaries and those working for financial guarantor. Securitization—financial guarantor • Works on marketing a financial guarantor’s expertise and services. • Analyzes risks involved in particular deals, liaising with consulting actuaries, investment banks and rating agencies, or reviews deal documents, and presents recommendations to credit committee. 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As industry best practices and regulations change, rating agencies are placing increased importance on companies’ risk and risk management processes; actuaries are ideally placed to assimilate these changes. ➤ Securitization adviser—investment bank. Over the past few years, there has been significant growth in the insurance securitization market as investment banks have structured securities to meet a need in the insurance industry—e.g., relief for excess reserves under Regulations XXX and AXXX. As this market segment has grown, investment banks, rating agencies, and financial guarantors involved in these deals have recruited actuaries to model the cash flows and understand the underlying risks of the securitized portfolios. The potential for added actuarial value abounds in this high- stakes securitization environment. As the capital markets become more familiar with insurance-related risks, more wide-ranging and actuarially complex deals are being contemplated. Being able to identify, quantify, and clearly articulate the risks associated with these structures will be keys to the range of insurance risks ultimately securitized. ➤ Securitization adviser—financial guarantor. Financial guarantors or monoline companies insure the timely and eventual repayment of bonds issued in a securitization. Actuarial involvement includes helping to market a financial guarantor’s expertise and services; analyzing risks involved in particular deals; serving as liaisons with consulting actuaries, investment banks, and rating agencies; reviewing deal documents; and presenting recommendations to the credit committee. Actuaries in Non-Insurance Capital Market Roles Capital markets are recognizing the inherent investment appeal of all kinds of insurance entities and products and will appreciate the value actuaries can add as they continue this journey. This conflu- ' #( ' ' " ' $ " & % " '$ $% $" $"'$ " & " "& $" & '$ $ " " " $" $" $ $"' " $"" '"" " $"" " " ' % " &" "$" &" " "" " "% " " % $" " (( ( 24 Contingencies | JUL/AUG.07